Hercules Inc. v. Utah State Tax Com'n, Auditing Div.

• Decision Date: 10 June 1994
• Docket Number: No. 930051,930051
• Citation: 877 P.2d 133
• Parties: HERCULES INCORPORATED, Plaintiff and Petitioner, v. UTAH STATE TAX COMMISSION, AUDITING DIVISION, Defendant and Respondent.
• Court: Utah Supreme Court

Page 133

877 P.2d 133

HERCULES INCORPORATED, Plaintiff and Petitioner, v. UTAH STATE TAX COMMISSION, AUDITING DIVISION, Defendant and Respondent.

No. 930051.

Supreme Court of Utah.

June 10, 1994.

Randy M. Grimshaw, Maxwell A. Miller, Keith E. Taylor, Salt Lake City, for plaintiff.

Jan Graham, Atty. Gen., Brian L. Tarbet, Asst. Atty. Gen., Salt Lake City, for defendant.

ZIMMERMAN, Chief Justice:

Hercules Inc. petitioned this court for review of a franchise tax deficiency assessed by the Utah State Tax Commission. The Commission found a deficiency in franchise taxes paid by Hercules for the years 1977 through 1980 on missile motor parts sold to Lockheed Missiles & Space Company. After the Commission assessed the deficiency, Hercules petitioned for a redetermination. The Commission held a formal hearing and affirmed the deficiency. Following a trial de novo on the record under section 59-1-603(1) of the Code, ¹ the district court reversed the Commission, holding that the sales in question were not "Utah sales" within the meaning of sections 59-13-92 and -93 of the Code. ² The sales were therefore improperly included in calculating Hercules' franchise tax liability. The Commission appealed. The Utah Court of Appeals reversed the district court, holding that the sales in question were Utah sales and thus subject to the franchise tax. Hercules Inc. v. Utah State Tax Comm'n, 845 P.2d 941 (Utah Ct.App.1992). We affirm the court of appeals.

We first summarize the relevant facts as found by the Commission. During the audit period, 1977 through 1980, Lockheed had a prime contract with the United States to build Trident missiles. Lockheed subcontracted with Hercules to build the solid-fuel rocket motors for the missiles. Hercules manufactured the motors at its Bacchus, Utah, facility. Lockheed inspected and accepted the motors at Bacchus, and title legally passed from Hercules to Lockheed and from Lockheed to the United States at Bacchus. The motors were then shipped from Utah via common carrier to military assembly facilities in either Washington or California. Once there, Lockheed assembled the motors and other missile components into the actual missile. Hercules provided supervision and other support services during this assembly.

Utah imposes a franchise tax under chapter 7, title 59 of the Code on the net income of corporations for the privilege of doing business in Utah. ³ Utah has adopted the Uniform Division of Income for Tax Purposes Act ("UDITPA"), which sets forth the method for apportioning the income of corporations that have income derived from, or attributable to, sources both inside and outside the taxing state. See Utah Code Ann. § 59-7-303(1). Under UDITPA, each state multiplies a corporation's total income by a fraction designed to reflect the income attributable to sources within that taxing state; the state then taxes this income. Utah Code Ann. § 59-7-311; see William J. Pierce, The Uniform Division of Income for State Tax Purposes, 35 Taxes 747, 750 (1957). The numerator of this fraction is the sum of three factors, the property factor, the payroll factor, and the sales factor; the denominator is three.

The sales factor for Hercules during the audit period is at issue in this case. Section 59-7-317 defines the sales factor as "a fraction, the numerator of which is the total sales of the taxpayer in this state during the tax period, and the denominator of which is the total sales of the taxpayer everywhere during the tax period." Utah Code Ann. § 59-7-317. Section 59-7-318 delineates which sales of personal tangible property are deemed to be made in Utah or, in other words, "Utah sales." This section states in relevant part, "Sales of tangible personal property are in this state if ... the property is delivered or shipped to a purchaser ... within this state, regardless of the f.o.b. point or other conditions of sale." Utah Code Ann. § 59-7-318.

The Commission determined that the motor sales were Utah sales under Code section 59-7-317 and thus properly included within the calculation of Hercules' franchise taxes. The Commission based this decision on its findings that (i) final delivery of the motors took place at Bacchus; (ii) at the time of delivery the motors were a final product for purposes of taxation; and (iii) Lockheed was "a purchaser 'within this state,' by virtue of its property, payroll, and sales here." Hercules Inc. v. Auditing Div., No. 83-0078, slip op. at 7 (Utah State Tax Comm'n Oct. 4, 1988).

The district court reversed the Commission on the ground that "[t]he 'property' that was sold by Hercules to Lockheed under the subcontract ... was a functional rocket motor [that] could be fired when the manufacturing process was completed." Hercules Inc. v. Utah State Tax Comm'n, No. 880907117 CV, slip op. at 5 (Utah Dist.Ct. Feb. 1, 1991). In other words, the district court reasoned that Hercules did not deliver a fully functional rocket motor to Lockheed in Utah, although title to the motors passed to Lockheed upon completion of the manufacturing performed at Bacchus. Such a functional unit came into existence only after further assembly of the entire missile at a seaport in Washington or California. Consequently, according to the district court, "The manufacturing process of the rocket motors was completed in the states of Washington and California, not Utah," and final delivery took place in those states. Id. at 11-12. The court concluded that the rocket sales were interstate sales properly allocated to Washington and California using the "destination rule." ⁴ Id. at 14-15.

In reversing the district court, the Utah Court of Appeals held that the subcontract between Hercules and Lockheed was for rocket motors that were to be used by Lockheed as component parts in building the actual missiles. Hercules Inc. v. Utah State Tax Comm'n, 845 P.2d 941, 943 (Utah Ct.App.1992). The court of appeals reasoned that the subject matter of the subcontract between Hercules and Lockheed was the rocket motors, as they existed upon completion of the manufacturing process at Bacchus. Id. at 941. The court of appeals thus held that the district court had incorrectly applied section 59-7-318 in finding that these sales were not Utah sales. Id. at 943-44. Further, because Lockheed was doing business in Utah and was a Utah purchaser and the motors were delivered to Lockheed within Utah, the sales were Utah sales under Code section 59-7-318 and properly included in the sales factor when calculating Hercules' franchise tax liability. Id. at 944.

In its petition for certiorari, Hercules contends first that the destination rule makes the sales either Washington or California sales, not Utah sales. Second, it argues that it has been taxed twice on the same transaction, once by Washington or California and again by Utah, in violation of the Commerce Clause of the United States Constitution. We address these arguments in order.

Hercules first argues that in calculating a corporation's tax liability, UDITPA case law from other states and scholarly commentary uniformly conclude that the destination rule should govern the characterization of sales. Under that rule, the destination of the goods sold determines the location of the sale, rather than the point at which title passes or other conditions of the sale that the parties can manipulate. Hercules contends that the rocket motors in question were ultimately shipped to and "consumed" in Washington or California, and thus, the destination rule requires that we characterize the sales as occurring in one of those states.

The interpretation of sections 59-7-317 and -318 of the Code presents a question of law, which we review for correctness. See Sandy City v. Salt Lake County, 827 P.2d 212, 218 (Utah 1992); Ward v. Richfield City, 798 P.2d 757, 759 (Utah 1990). On questions of statutory construction, we first consider the plain language of the statute. "Only if we find some ambiguity need we look further." Shurtz v. BMW of N. Am., Inc., 814 P.2d 1108, 1112 (Utah 1991); see Bonham v. Morgan, 788 P.2d 497, 500 (Utah 1989).

Section 59-7-318(1) states, "Sales of tangible personal property are in this state if ... the property is delivered or shipped to a purchaser ... within this state, regardless of the f.o.b. point or other conditions of the sale." (Emphasis added.) In this case, the motors were transferred to Lockheed, a Utah purchaser, in Utah, as finished components to be used by Lockheed in building the actual missiles. This makes the sales Utah sales for purposes of the statute.

The district court found, "The 'property' that was sold by Hercules to Lockheed was a functional rocket motor [that] could be fired when the manufacturing process was completed." Hercules Inc. v. State Tax Comm'n, No. 880907117 CV, slip op. at 5 (Utah Dist.Ct. Feb. 1, 1991). This led the district court to conclude that the property was not delivered until the missile's manufacturing process was completed at the seaport assembly point. Id. at 11-12. The court of appeals disagreed with this characterization of the contract's terms. Hercules Inc. v. Utah State Tax Comm'n, 845 P.2d 941, 943 (Utah Ct.App.1992). We agree with the court of appeals. The sale between Hercules and Lockheed is completed prior to Lockheed's final installation of the motors as part of the missile assembly process. The subcontract between Hercules and Lockheed was for motors that could be used by Lockheed in assembling the missiles and would be functional when the process was completed (similar to a warranty). The sale of the motors from Hercules to Lockheed was completed in Utah in accordance with section 59-13-93 of the Code. Although final assembly was required to produce a missile, this did not make the sale of the finished motors incomplete upon delivery at Bacchus.

Further, we reject Hercules' argument that the destination rule applies here. That rule applies only to interstate sales. Hercules...